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Think better of withholding tax on banking transactions

The issue of withholding tax on banking transactions for non-filers in the budget for next fiscal year (2017-18) need to be reconsidered, the State Bank of Pakistan (SBP) asked the government again in a statement last week. The SBP is of the firm opinion that imposition of advance tax on banking transactions is disheartening the citizens from using banking channels for their financial transactions.

It has specifically argued that this levy of 4 percent on non-filers and 0.3 percent on filers adversely affects the deposit base of banks and this was a matter of concern because Pakistan has one of the lowest saving rates as a percentage of GDP among regional countries and imposition of advance tax on banking transactions is further discouraging the public from using banking channels for their financial transactions. Additionally, withholding tax on banking transactions is creating problems for the low income groups such as pensioners, retirees, farmers, students, etc, who fall below the taxable threshold limit yet they are charged the higher non-filer rate. Also, the salary of an employee is subject to deduction of tax at source and tax applicable on the entire salary is deducted by the employer for deposit in the government treasury. At the time of withdrawal of salary, tax is again imposed which amounts to double taxation and is grossly unfair. Considering all the factors, SBP has proposed to remove section 236 and if that is not possible, exemption should be provided to students, widows, pensioners, salaried class and farmers. In case this is not done, threshold of transfers/transactions should be increased to Rs 100,000.

The State Bank’s proposal on withholding tax on banking transactions seems to be legitimate and needs to be considered vigorously by the government. It also needs to be affirmed that this is not the first time that such an offer has been made. Both the banks and the business community have been hammering for the withdrawal of this levy but the government has refused to yield to the advice because of budgetary reasons

The government imposed 0.6 percent withholding tax on banking transactions on withdrawal of more than Rs 50,000 in the budget for fiscal year 2016 which was reduced subsequently to 0.3 percent due to protests of traders. This rate has been raised to 0.4 percent recently.

The State Bank’s contend that to abolish this levy altogether is based on very solid arguments. The saving rate in Pakistan’s economy is one of the lowest in the world and this is a great constraint for investment and growth. The government’s claim of raising the growth rate to above 5 percent on a sustainable basis in the coming years would turn out to be useless if saving and investment rate is not increased to nearly 20 percent or so.

The levies of withholding tax on banking transactions would discourage the savers and is not useful for economy. It must be repeated and known that withholding tax is deducted on the withdrawal of deposits held by sections of society like widows, pensioners and farmers is not justifiable.

A large segment of population cannot claim credit for the deducted amount due to lack of education and knowledge of tax filing. They are not likely to file the claims for tax deduction due to the fear of persecution by the tax authorities. Also with the present policy of withholding tax the size of cash and informal economy may increase while home remittances through banking channels could also be negatively affected to a certain extent.

On the other hand it would be much better to improve the efficiency of the tax collecting machinery and catch the tax evaders and punish them. It is rather unwise to rely on such minor and inequitable measures to increase the tax revenues of government.

Withholding tax is a tax levied on income (interest and dividends) from securities owned by a nonresident as well as other income paid to nonresidents of a country. Billions of rupees were lost as traders protested against bank transaction. A lack of documentation of trading activity makes it difficult to accurately assess the losses caused by strike.

In the latest budget, the government imposed a 0.6 percent withholding tax. It later reduced to 0.3 percent for three months on all kinds of banking instruments of non-filers of income tax returns. It is observed that the decline in deposits held by retail and wholesale segments of the business community is not very large, whereas segments like construction and refined petroleum are showing very large declines.

The number of complaints coming from the common citizen such as pensioners and widows deserve more consideration. The government’s energies should now be concentrated on getting the large number of people to file their returns this year.

On the other side the State Bank of Pakistan (SBP) said that the imposition of withholding tax on banking transactions seemingly failed to discourage the cash economy.

“The imposition of the WHT on banking transactions apparently defeated the very purpose for which it was imposed that is, to discourage the cash economy,” the SBP said in its annual report on state of economy. The government imposed a withholding tax on non-filers of income tax returns through the Finance Bill 2015, initially at the rate of 0.6 percent on all non-cash banking transactions. Later, the tax rate was lowered to 0.4 percent after opposition from some section of society.

Through the Finance Act, 2005, the government imposed withholding tax, initially at the rate of 0.1 percent, on cash withdrawals from banks exceeding Rs25, 000 in a day. Both tax rate and cash withdrawal limit have changed since then.

For fiscal year 2018, a withholding tax of 0.3 percent and 0.6 percent applies on filers and non-filers respectively on cash withdrawal exceeding Rs50, 000 per day. However, filers can claim for refund of the amount paid in this tax.

While the withholding tax on non-cash banking transactions seems to have had a negligible impact on revenue collections and incentivizing tax filing, it instead led to an increase in currency in circulation and a decline in private business deposits. Currency in circulation grew by 21.5 percent on average during July 2015 to June 2017 against an average growth of 14.0 percent recorded in the past 11 years prior to its imposition that is, between July 2004 to June 2015.

Private business deposits as a percentage of total deposits, on the other hand, declined from 27.6 percent to 25 percent after imposition of the WHT on banking transactions. This shows that the imposition of the withholding on banking transactions apparently defeated the very purpose for which it was imposed that is, to discourage the cash economy.

Federal Board of Revenue (FBR) has finally announced the detailed tax rates on all banking transactions to be made in 2017-18. These rates will be applied as it until the revised SRO of FBR. Current withholding tax on all type of withdrawal from the banking system would be 0.3 percent on case of filer and 0.6 percent in case of non filer if the total amount exceeded from Rs25,000 in a day. It is applicable on all transactions either made by means of sale of any banking instrument, online cash transfer, withdrawal of cash, etc.

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